The Market Engulfing Extravaganza

Tuesday was a special day for us stock market participants. We don’t always have such a spectacular display of completed Bullish Engulfings on a single day. It was an amazing thing to watch. Last night I could barely sleep. I just wanted to come back and make sure that actually happened. Man, what a rush!

For those of you who are less enthusiastic about Bullish Engulfings, or “outside days” as they call them in the West, these things don’t happen too often, and there are even fewer instances where they all take place in unison. We’re pretty stoked about it, I gotta tell you. What we’re referring to here specially is the fact that yesterday, the lows of the day in many cases were below the prior day’s lows, but the highs and closing prices were both above the prior day’s high. The double extreme here is evidence of an overwhelming amount of demand relative to supply. Here is what it looks like:

The psychology here is simple. Sellers try to take control early in the session. This is where media hype comes into play. There is generally some sort of negative sentiment, whether earnings driven or monetary policy or in this case they tell me it’s because of a missile. Regardless of the justification, the point is sentiment is negative enough to send prices below the prior period’s lows. But then as the demand quickly comes in, the market is essentially brushing off that negative media sentiment as nothing more than noise. The buyers take that opportunity to own more, or even get in when they hadn’t in prior dips. If there was in fact an overwhelming amount of supply, relative to demand, simple math would tell you that prices would not elevate beyond the prior day’s highs to close at new highs. If there were indeed more sellers than buyers, prices would likely continue lower, or at least stay near the lows. But no, when you see these Bullish Engulfings, there is logically more demand than supply.

These rare cases can take place on any timeframe. While we’re more focused on Tuesday’s action specifically, I think it’s only fair to make sure we’re keeping this in context of what took place last November. The Russell2000 Futures put in a Weekly Candlestick that Engulfed the prior 17 weeks!

This was extreme evidence of more demand relative to supply. So now we look at what took place this week. Here are Dow Futures engulfing the entire prior period:

Here is Technology, the biggest sector (by far) in the S&P500 engulfing the prior 5 days:

Industrials put in a Bullish Engulfing Day:

Healthcare did too:

So did Dollar/Yen, which moves very closely with Japanese Stocks:

The sellers tried to take control, they could not, the buyers stepped in and won the battle. Does that mean they’ll win the war? No, (ask the South) but does it hurt the case for Bulls? No, I think it strengthens it for sure!

Okay, so let’s take the other side of this. What’s the argument that JC is completely full of shit and all of this is irrelevant. Well, first this is the last week of August. Volume is supposed to be light (is it?), the pros are on vacations (are they?), and the rookies are at the desks (is this true?). So historically we try not too give too much weight to what happens this week, and the week before New Years. So because of these seasonal characteristics, do we just ignore this development completely? That’s one way to approach it I suppose, by ignoring price…..

The other arguments are more from a classical Japanese perspective. Traditionally, Engulfing patterns suggest a reversal in trend and would therefore need a prior downtrend in place to be considered a “Bullish Engulfing”. If we’re going to stick with that classic definition, would the more sideways trend we’ve been in count? Are we really “reversing” a trend? I don’t think this qualifies as that.

My view here is that the point is not whether or not we’re reversing any trends. My main focus is trying to identify the direction of the primary trend. We have a lot of information to weigh, not just one data point. We want to put everything we’re seeing around the world into context, for example the fact that stocks are currently at all-time highs. So is the fact that all of these indexes, sectors and stocks gapped down on the open below the prior day’s close but then rallied throughout the day to close above the prior day’s highs evidence of more demand for stocks or more supply for stocks. Is this sort of behavior something we see when sellers are in control or when the buyers are in control?

In my experience, this is very clear evidence of accumulation, not distribution.

Cheers,

JC

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